Insurance  -  Berkshire's growth engine

Insurance - Berkshire's growth engine

by Pininvest Analysis

Trust and Insurance ETFs on pininvest.com

  • 6 constituents
  • -14.9% 1y performance
  • 40.3% volatility
Check the investment theme exit_to_app

"Insurance, a business I do understand and the engine that for 51 years has powered Berkshire's growth"  W. Buffet  -  Chairman's Letter to the Shareholders 2017

 

Though it may be counterintuitive because the holding company is much diversified in manufacturing (21% of 2017 revenue), MacLane supply chain (20%) and others , Berkshire Hathaway is included in our theme to signal the vast importance of its insurance and reinsurance businesses  - critical in financing the company’s growth with the float generated by GEICO (11% of  2017 company revenue - $29.44bn), Berkshire Reinsurance (10% of cy revenue - $24bn) and Berkshire Primary Group (3% of cy revenue - $7.14bn)

In his plain-spoken style, Mr Buffet explains the dynamics of insurance in the latest letter to sharehoders (published in Feb. 2018) 

  • insurance is about trust -  trust relies on the confidence an insurance group will be able to honor its commitments to the insured clients - ultimately, trust will rest on each group's net worth
  • short-term risks - such as car collisions or homeowner policies - limit the insurer's exposure and are usually very competitively priced 
  • long-tail risks - such as medical malpractice, product liabilities or catastrophic events - play out over many years but materialize 'float' - moneys potentially required for pay-out - growing in the form of premiums year after year while pay-outs will be delayed and sometimes spread out over long periods
  • this is why Berkshire prefers to insure long-tail risks, growing float which will be deployed and generate dividends, interest and gains to benefit the company
  • the back stop is the net worth (or shareholder value) of the holding company, demonstrably able to support potential catastrophic losses - as of Dec. '17, total equity based on the wide ranging businesses of Berkshire is $351.95bn  and estimated insurance losses for the year were of $2.2bn after tax, which is well below 1% of equity
  • with approx. 1/10th Bershire's net worth, even the largest reinsurance companies (SwissRe, MunichRe or Lloyd's) who take on the risk other insurers are not capitalized to cover, do not belong in the same league
  • in case of even larger catastrophes than the estimated $100 bn in 2017 - or repeated large losses over multiple years - reaching $400bn in the example quoted in the Letter, very few insurance and reinsurance companies if any, besides Berkshire, could withstand the losses

Though the ability to cover large losses is key in evaluating insurance businesses in general, Berkshire has turned its considerable net worth into a unique barrier to entry for the coverage of exceptional risks 

Mutually supporting, the year-on-year growing float and the increasing net worth of the holding are at the heart of Berkshire, a construct which is the true legacy of W. Buffet

Considering the importance of Berkshire Hathaway insurance business (and for many other reasons), it is worth reading the 2017 Charmain's letter – page 6-8 and pages K1 (p.33) – K5 (p.37) of the Annual Report